Fonterra Co-operative Group Limited (FCG) Earnings Call Transcript & Summary

Good day, and thank you for standing by. Welcome to the Fonterra Co-operative Group FY '24 Q1 Investor Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Miles Hurrell, CEO. Please go ahead.

Good afternoon, everyone. Thank you for joining the call. Here with us are Simon Till, Acting CFO; and Selena Robb, Director, Capital Markets and M&A. Hopefully, you've had a chance to review the information that we released today as part of our quarter 1 business update. We will intend to go through the slides if you have them in front of you. Just the first slide, just a quick summary. We have had a good start to the year. Quarter 1 profit after tax of $346 million, up $214 million on the prior year, driven by improved margins across all 3 of our channels, being Consumer, Foodservice and Ingredients. [ Group's ] earnings per share of $0.20. That includes the performance of discontinued operations and the impact of our selling of DPA Brazil business. The comps continuing operations earnings per share is $0.24, which is up from $0.13 in the prior year. The strong start has led us to lift our full year earnings range to $0.50 to $0.65 from $0.45 to $0.60 prior. We also lifted our Farmgate Milk Price by $0.25 and also narrowed the range that is now sitting between $7 and $8, with the midpoint of $7.50. Just Slide 4 talks a little bit about some of those drivers on the milk price. Of course, you can see a significant drop in demand from China between '21 and '22, but a slow emergence, reemergence, if you like, of China into '23, which is giving us the confidence to see that milk price increase to the $7.50. The next slide, Slide 5, you can see reference commodity prices for the quarter are materially lower than the prior year, down around 23%, well below price that we've seen in F '22. And the graph shows that the nonreference prices have not declined at the same rate as reference product, which was already down 12%. This has driven increased margins in Ingredients, in particular, and has also contributed, obviously, to the strong start to the year. I'll ask Simon to take us through a couple of detailed slides before we come back for some questions.

Thanks, Miles, and good afternoon, everyone. I'm on the next slide called key performance drivers. So looking at the middle part there of those key drivers for the continuing operations, you can see there that the main one there is the $229 million from margins. And as Miles mentioned, that's been a contribution across all the channels. So when we look at the key drivers there, we've seen both Foodservice and Consumer channels, in particular. They've managed to keep good pricing in market, but obviously also benefited from the lower milk price or input costs. Moving across to the right there, you'll see operating expenses, and they are up a bit. That does reflect a couple of key elements. One was the higher storage and distribution costs that we had to facilitate those higher volumes of sales in Foodservice and Consumer. There's also some inflation on the wage workforce has been there, and also in terms of the efficiency initiatives, some of the upfront costs there. One more bar to the right there, we've got the finance costs, so benefiting from lower levels of debt or overall borrowings and also you may be aware we hedged the interest rate time. So that's had a positive impact in terms of interest cost as well. Then obviously paid more tax, but that reflects the fact of higher profit and earnings. So then the last part is just putting that, as Miles mentioned, between the continuing operations and the total group there. So that is a negative, so it covers DPA Brazil. So that includes the trading result, which was actually positive earnings, but there was a release from the foreign currency translation reserve, reflecting the -- effectively the change in the currency over the life of the asset. So net-net, that was a negative. If we move on to the next slide, where we provide that channel perspective. And really, I just want to make the point there, not just an improvement in the margins across the channels, but also the allocation of milk. So you can see there that we've allocated list of Ingredients and more into the higher-margin Foodservice and Consumer. So that's been part of the improvement we've seen as well. So Miles, back to you.

Yes, Great. Thanks, Simon. Just in terms of where we're at strategically, of course, in the quarter, we are focusing on the leadership and sustainability. We have introduced a 30% reduction for on-farm emissions. So pleased to have that out in front of farmers and are working with them on what we can collectively do to achieve that. Of course, we did pay out the $0.50 capital return in the quarter through the sale of Soprole and, of course, the -- finally completed the divestment of DPA. So really pleased to see those through. But overall, a great start to the year, good momentum built across the organization and really pleased with how we are facing into the remaining 3 quarters of the year. Thank you, and open up for questions. Thank you.

[Operator Instructions] First we have, Arie Dekker from Jarden.

Just firstly, on the earnings range and also sort of, I guess, your commentary around second half margins and expectations for contraction and strong returns. I mean you've got some contract pricing out there, which shows a narrowing of the gap well into second half. What are the factors still, I guess, driving the $0.15 range within the guidance given you clearly got quite good line of sight into -- reasonably late into the year?

Yes. So things move pretty quick. And then, in fact, only -- the last time, GDP, as a simple example, Arie, chased up 9.7%, but it was down a similar amount of EBIT before. So what we have seen is the coming together of reference and nonreference over the last few months from where it was certainly a year ago. And so nothing would suggest that we don't see that contraction continuing out for the remainder of the year. We do obviously keep close to it. And of course, we'll contract as much as we can as the market sits now. But as the spread sits there, you'd certainly expect to see more competition come into play in that space. And that's what we've seen in the last few months.

Yes. And just with that, I mean, contracting as much as you can. I mean you've given a guidance here on sort of the contract shipment prices. Are you able to give a little bit of a guide as to how much volume is still, I guess, exposed to the vagaries and hasn't contracted through that second half guide?

No, we're not -- we don't disclose those numbers other than to say it's similar to where we've been previously. So we're comfortable with our contracted position. Our nonreference is slightly ahead of our reference in terms of contracted position, which, again, we are very comfortable with. But we don't disclose that detail, Arie.

Sure. I mean very, very strong earnings in the first quarter, obviously. As with regards to balance sheet, I think you made an adjustment at FY '23, the allowance for the capital return already and clearly you paid a large final dividend as well. So except the impacts of that on the debt. But just from a cash flow perspective, anything sort of a call-out that would be a reason why the very strong earnings during the quarter didn't flow into through the balance sheet, working capital all pretty normal.

No. The only positive, if you like, on that because I think you're looking for a negative here. But on the positive, you would have seen volume up slightly in terms of sales for the quarter despite being a pretty soft milk collection. So that's a reflection of actually our sales profile in the first quarter has been very strong. So working hard on that. Nothing that be untoward. Probably the only one to call out is that we did increase milk price today and also increased the advance rate. But that's short term and obviously washed through throughout. But the $0.30 November pay, December, which has been very well received by our shareholders, of course.

Yes. And then final question, I guess, is the balance sheet is in very, very strong shape. The business is still enjoying very strong earnings. There will be no doubt on normalization here at some point on the strong returns. But I guess just against what you're earning and with FCG shares sort of in the low $2 sort of range and you've got an operative buyback. Is it just -- is there anything you can sort of highlight as to why you're not buying back shares at the moment under that buyback at those sorts of levels and whether we might expect you to sort of fire up the buyback any time soon?

Yes, it's Simon here, Arie. So I guess just the first point is the buyback is an important part of our overall capital management. So I guess just confirming that. And in terms of the particular program we've got out there, there's obviously a 12-month one. So there will be times when we are in the market and times when we aren't. So there's nothing more specific really to add than that.

Yes. And you did mention in the release looking at the potential for a pretty strong interim dividend. It's not that there's an intent to sort of say the dividend of the -- necessarily being in the market buying back shares at these levels?

No, that's not the intent. I think it's really just making the point there that the -- quarter and obviously expecting that performance to continue. And we obviously look at the full year earnings. But as you say, that should translate through to a good yield as well.

No, that's great. Well done. It's great to see such a strong start to the year. Thank you.

Thanks, Arie.

Next, we have Marcus Curley from UBS.

I just had a couple of questions if I can. Miles, could you just talk a little bit, or Simon, to the rate of OpEx growth and how you're thinking about that over the course of the year? Would be expecting to see that come back given some of the drivers that you called out?

Yes. So we put out, as you recall, for the full year, a couple of new metrics that we're going to tap a report on a biannual basis. And so we intend to update you that at the half. Of course, they will be a bit lumpier as things play out. Of course, the increase in volume in Consumer and Foodservice played a part. Clearly, it's a bit more expensive to manufacture and execute those sales, so they played a part. But there's nothing in our plans that would indicate that those targets that we put out there that we're going to report on biannually will be front and center of our organization.

Simon mentioned, some sort of, I suppose, initial sort of consultancy/project-related work. Is that continuing? Or is that broadly a one-off in that quarter?

Well, I mean, a business of our scale is always things that come and go. So I wouldn't -- yes, I guess there are some costs that have been incurred in the short term to support some of our plans going forward. Yes, so they may not be continuing, but at the same time, of course, we are looking for new initiatives and new projects that may incur other consulting costs are coming. So I can't say just definitively that our consulting fees will be up or down on a long-term basis. So they'll just be fit for purpose as and when we look at different projects.

And that includes also, Marcus, things like engineering costs as well, or fees, which obviously linked to some of our CapEx profile, as you know, when we do most of the maintenance as well. So it's inclusive of those and also some of the initiatives around achieving best pricing as well. So it's a combination of things there.

Great. And then just on the Ingredients business, as you've seen commodity prices come down for nonreference products, have you been able to reestablish your higher price premiums? Or could you talk a little bit to how that has tracked over the quarter or the last couple of quarters?

Yes. Without going into specifics for the quarter, we don't go to that level of granularity. Gross margins across all channels are up. So that should be a reflection that despite it being a reference or nonreference, the gross margins we're achieving are up across all our channels.

And I should have probably mentioned in my notes also, just to add to Miles' point, we did note there when we look at the Ingredients margins, they -- those quite strong relativities did flow through, but there was obviously some tighter ones in Australia as well, which obviously [ we don't ] price there. So it's -- obviously, we're giving the total there, and you'll see obviously a bit more granularity at half year in that area.

Okay. And then just on the Consumer and Foodservice, any signs of competition-led pressure on prices? Or I suppose, you primarily [ faced it ]. It doesn't feel like the Europeans have sort of been -- or producers haven't necessarily benefited to the same degree as you sell from lower milk cost. So just interested to get an update in terms of the competition and pricing environment particularly in Asia.

Yes. We're not seeing any significant change in the competition position in those markets. That said, it is a pretty good performance across the business and, therefore, the gross margins that we have been able to achieve. I mean that attracts the competition as a result. So one would expect that we need to be on our toes as we get into quarter 2, 3 and 4. So nothing that we're seeing right now, but we've been around long enough to know these things [ have ] cyclical turn. So when you get them to open up to decent gross margins, you start to get a bit of the pressure come on. Notwithstanding some of what we've seen in New Zealand context around the cost of living crisis, similar to commentary here. And that's a consistent theme we hear in a lot of our markets. So there's competition on one hand, but at the same time, the purchasing power of consumers that are playing out as well. So making sure we maintain share of wallet of individual consumers is important.

[Operator Instructions] I see no further questions at this time. I will now pass back to Miles.

Great. Thanks, everyone, for your attendance and your support. Yes, we're pleased with how the quarter has gone. I look forward to further updates in due course. Thank you.

Thank you.

Thank you. This concludes today's conference call. You may now disconnect.